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What goes up…

According to theories by scientists such as Stephen Hawking and Roger Penrose – theories on which my grasp is tenuous at best – the only thing that keeps the universe from collapsing in on itself is its perpetual expansion.

As sure as an apple shaken from a tree will fall to the earth, every mass in the universe is attracted to every other. Eventually, after the momentum of expansion expires, all matter will come hurdling inward toward one point resulting in an incredible explosion and a new beginning.

Scientists refer to the moment of the explosion as a “singularity” or as I’ve roughly interpreted it – a moment that remakes the rules.

Over the past two years, as the well established media industry has begun to shift momentum and begin collapsing in on itself, a burning question has been developing in my head.

The question is not ‘when will the industry collapse’ – it’s ‘what will happen after the big bang’?

I’m not sure I think singularity is an appropriate metaphor for the change in the media industry. I’m more inclined to look at it from an economic perspective – specifically, one where transaction costs determine the shape of the industry.

Ronald Coase wrote two articles about transaction costs (and won the Nobel Prize for them). I can send you the articles if you’re interested – but in short, a transaction cost is how much it costs to get something done (e.g. buy music, or make a recording, etc). A “firm” is efficient when the transaction costs are cheaper _within_ a company structure than in the market. If it’s cheaper in the market, then there’s no reason to have employees doing it – so you get outsourcing.

Media is interesting because (i) marginal distribution costs have dropped to near-zero, (ii) all digital media is non-rival – a rival good is one where only one person can use it at a time; classic non-rival good is an idea – (iii) the cost of creating media has dropped several orders of magnitude.

A simple “rule” in economics is that in a perfectly competitive market, there is no profit (once you take opportunity cost into account). So the total revenues generated should not exceed total costs, plus whatever your opportunity cost is. If it costs $10 million to make a short video, and the opportunity cost is $1 million, then total revenues should be $11 million – no matter how many people “buy” it.

That, combined with (1) lower production costs and (2) lower transaction costs of producers interacting with clients implies that publishing companies (e.g. members of the RIAA, or the cable networks, etc) are no longer necessary. Previously, they were necessary to (i) provide capital for production costs, and (ii) reach the customers (e.g. via advertising). It’s most obvious when applied to music, but should also apply to movies, TV shows, etc.

As a side note, lower transaction costs means that more transactions occur, presumably each with a lower average cost. So if you take the movie industry: it stands to (baseless) reason that are production costs decrease, and more consumers have home theatres/computers, you’ll get more movies, each of which make less money than classic “blockbusters.” Because there’s a finite amount of money in the market, if transaction costs are high then only a few (“guaranteed hits”) are allowed through by the gatekeepers, who do their best to make that a self-fulfilling prophecy. But if you go and flood the market with media, you’ll still have blockbusters – old 80/20 rule – but you’ll have more smaller productions.

Awesome – love the argument and the references to market liquidity when it comes to media creation. It reminds me of an old analogy I once heard: we used to fill the glass with rocks (big productions), now we fill it with sand.